DAOs’ current forms of regulations: an overview
Introduction.
The legislative models that provide a legal status for the enterprise collectively carried out in the form of a DAO can be divided into two categories, depending on whether they provide a specific legal model for DAOs, or they are general models that can also be used with reference to them. In this second category, we can then further distinguish between cases in which DAOs are traced back to the corporate or foundational form.
Legislative models introducing ad hoc regulations for DAOs.
There are only regulations that provide for the incorporation of DAOs in corporate form, in particular as Limited Liability Companies. See:
a) Wyoming Decentralized Autonomous Organization Supplement, Wyoming.
Passed on April 2021, effective from 1 July 2021 (available at: https://www.wyoleg.gov/ o https://wyoleg.gov/NXT/gateway.dll?f=templates&fn=default.htm). It is essentially an amendment to the Wyoming Limited Liability Company Act. It has been amended with:
1. SF0068, Decentralized Autonomous Organization Supplement Amendments, May 2022;
2. SF0075, of February 2023, effective 1 July 2023.
This law granted limited liability company status to DAOs operating on blockchain, organized under the Wyoming Limited Liability Company Act. It thus introduced the so-called DAO LLC (DAO Limited Liability Company). This protects participants by recognizing their limited liability.
The DAO is defined in § 17-31.102 (a) (ii), pursuant to which “Decentralized autonomous organization means a limited liability company organized under this chapter”.
In terms of management, § 17-31-109 provides that “management of a decentralized autonomous organization shall be vested in its members or the members and any applicable smart contracts. All smart contracts utilized by a decentralized autonomous organization shall be capable of being updated, modified or otherwise upgraded”. The law therefore recognizes two types of DAO:
a. Member-managed DAOs, similar to the LLC, where some members are responsible for maintaining and managing the organization;
b. Algorithmically-managed DAOs, which can register as an LLC if the governing smart contract system is already in place at the time of filing. In this case, the computer protocols for managing the DAO must be able to be updated or modified.
A further point of interest is that the law defines the membership interest in § 17-31.102 (a) (vi), as “member’s ownership right in a decentralized autonomous organization, which may be determined by the organization’s articles of organization or operating agreement or ascertainable from a blockchain on which the organization relies to determine a member’s ownership right. A membership interest may also be characterized as either a digital security or a digital consumer asset as defined in W.S. 34-29-101, if designated as such in the organization’s articles of organization or operating agreement”. An issue of proportionality is also introduced with respect to the DAO’s participation quota under § 17-31-111, whereby the participation “(i) (…) shall be calculated by dividing a member’s contribution of digital assets to the organization by the total amount of digital assets contributed to the organization at the time of a vote; or
(ii) If all members have not contributed digital assets to an organization as a prerequisite to becoming a member, each member shall possess one (1) membership interest and be entitled to one (1) vote”.
It should be noted that due to the Treaty of Friendship, Commerce and Navigation between the Federal Republic of Germany and the United States of America of 29 October 1954, this law also has concrete effects on the German and European business landscape. This means that a DAO LLC from Wyoming is also recognised as a limited liability company in Germany and can operate in Europe. For Italy, see Law No. 385 of 18 June 1949, ratifying and executing the Treaty of Friendship, Commerce and Navigation (Art. II, c. 2, Treaty), the Protocol of Signature, the Additional Protocol and the Exchange of Notes concluded in Rome between Italy and the United States of America on 2 February 1948.
b) Decentralized Autonomous Organization Act, The Republic of the Marshall Islands.
Outside the US context, reference is made to the experience of the so-called MIDAO LLCs, introduced by the Republic of the Marshall Islands with the Decentralized Autonomous Organization Act of 2022. In that case, too, they are regulated as limited liability companies subject, insofar as compatible, to the regulations of the Limited Liability Company Act of 1996, Chapter 4 of Title 52. It is presented as the legislation that will soon become the reference jurisdiction for the registration of DAOs, due to the fact that it is not a country on the European black list and the legislation is more flexible than that of North American countries. In particular:
- no board members or officers are required;
- every member gets equal liability protection;
- blockchain and smart contracts are officially recognized by law for use in governance and membership tracking;
- costs are lower than other non-US options;
- compliance requirements are optimized for DAOs;
- no taxes on the entity or the members;
- not on any blacklists, sanctions lists, or tax evasion lists.
The DAO is defined in §102 (c) as “a resident domestic limited liability company organized under this chapter”. It also contains a more detailed list of definitions, including those of digital asset, digital security, blockchain, membership interest, and smart contract.
Similarly to the Wyoming regulations, in terms of management it provides that (§ 108) “management of a decentralized autonomous organization shall be vested in its members, if member managed, or the smart contract, if algorithmically managed, unless otherwise provided in the certificate of formation or limited liability company agreement”. It therefore contemplates the possibility of the DAO being managed by the members or algorithmically, i.e. managed by the smart contract.
From the point of view of purpose, it is made clear that a decentralized autonomous organization may form and operate for any lawful purpose, regardless of whether for profit (§105).
From the point of view of membership participation, however, it is expected that, unless otherwise provided for in the certificate of formation, limited liability company agreement or smart contract, membership interests in a member managed decentralized autonomous organization shall be calculated by dividing a member’s governance tokens held divided by the total amount of the organization at the time of a vote. However, it is possible that members do not hold governance tokens of an organization as a prerequisite to becoming a member. In this case, each member shall possess one membership interest and be entitled to one vote.
Legislative models which, although not specifically considering DAOs, are usually used to provide DAOs with legal status.
A) As corporations:
a) Blockchain-based Limited Liability Company, Vermont.
On 30 May 2018, Vermont passed a law (Senate Bill 269, available at: https://legislature.vermont.gov/statutes/section/11/025/04171; alternatively, available at the unofficial website: https://law.justia.com/codes/vermont/2018/title-11/chapter-25/): “an Act Related to Blockchain Business Development”, which came into effect on the following 1 July. The law was designed to stimulate Vermont’s economic development through the promotion of blockchain technology. To this end, it introduced Blockchain-based Limited Liability Companies (BBLLCs). The regulatory intervention took place through the introduction in Title 11, dedicated to “Corporations, Partnerships and Associations”, “Chapter 25 - Limited Liability Companies”, of “Subchapter 12 - Blockchain-based limited liability companies”.
It has thus opened up the possibility of setting up limited liability companies as DAOs, allowing for full governance via blockchain. In this case, we do not have a definition of a DAO, as the regulatory intervention addresses the Blockchain-based Limited Liability Company more generally, as a “limited liability company organised pursuant to this title for the purpose of operating a business that utilises blockchain technology for a material portion of its business activities” (§4172).
With respect to the governance of these companies, the act specifies that “a BBLLC may provide for its governance, in whole or in part, through blockchain technology” (§4173 (1). See §4175). In addition, the operating agreement shall specify whether the decentralized consensus ledger or database utilized or enabled by the BBLLC will be fully decentralized or partially decentralized (§4173 (2)).
b) Legal DAO, Delaware.
DAOs are often incorporated under Delaware law: they are the so-called LAO (Legal DAO). The LAO provides a legal structure to allow members to invest in blockchain-based projects in exchange for tokens. It is a “legal wrapper” created by structuring the DAO as an LLC, with the aim of ensuring limitation of liability to members, clarifying applicable law, and providing tax benefits.
The Delaware statute governing limited liability companies (LLCs) is found in Chapter 18 of Title 6 of the Delaware Code, available at: https://delcode.delaware.gov/title6/c018/index.html. It provides, inter alia, the laws relating to the formation, management, governance, mergers and dissolution of LLCs.
Thus, in this case, a Delaware-based LLC holds full ownership rights and serves as the beneficiary of the funds, or part thereof, collected in a token sale launched by a DAO. While Wyoming now has ad hoc legislation, Delaware allows a DAO to be created as a single legal entity, with legal protections similar to any other LLC, but DAOs are only at the “front” side. In the “back” part, there is a regulated corporate structure as an LLC.
B) As foundations:
Alternatively to the corporate form, DAOs are often taken to the legal structure of the foundation, as phenomena that are characterized by:
- immutability of purpose;
- tendential autonomy from the founder.
Although these profiles lead to the DAO being approached in this legal form, the following obstacles should be noted:
- the possibility of including virtual assets, such as the tokens typically used by the DAO in its operations, in the list of assets that may constitute the foundation's assets;
- the legal form of the foundation in many countries requires the presence of directors, who legally represent the foundation. A profile that evidently can come into friction with the need for decentralization typical of DAOs.
The following models are mentioned:
a) Cayman Foundation Companies, Cayman Islands.
Cayman Foundation Companies were introduced because in recent years many common law jurisdictions such as the Isle of Man and Channel Islands have moved to create legal structures that emulate civil law foundations in an effort to remain competitive on the world stage. Cayman seized the opportunity to do the same by enacting the Foundation Companies Law in 2017.
The foundations have separate legal personality and provides for limited liability. They can be structured without shareholders. In that case, the foundation companies can be supervised by a supervisor. Limitations on roles and duties of the directors can be set by the bylaws. In 2022 the Caymans enacted the Virtual Assets Service Providers Act, (cd. VASP), which can be useful for those DAOs which want to carry out Virtual Assets activities.
b) Swiss Foundations, Switzerland.
This is not ad hoc legislation, but a general legal model that is used for the incorporation of DAOs as it is considered more flexible than the corresponding European models.
c) Others.
- Virtual Assets Service Providers Act, 2022 (Cd. VASP), Virgin Islands.
- Panama Foundation.
Conclusive remarks.
The following conclusions can be drawn from the analysis of legal precedents:
1. In terms of governance, two types of DAOs are generally accepted: those managed by members and those managed by algorithms. Member-managed DAOs are governed through blockchain-based voting mechanisms, while retaining decision-making power in the hands of the members. Algorithmically managed DAOs, on the other hand, are entirely controlled by their smart contracts.
2. From the point of view of decentralization, totally or only partially decentralized DAOs are allowed.
3. Although they are often used in the context of cryptocurrency brokering activities, regulation does not only consider this type of activity.
4. The regulation does not require the pursuit of a profit-making purpose, as DAOs may well be established and used for the performance of non-profit activities.
Notes
F. Sarzana di S. Ippolito e M. Nicotra, Diritto della blockchain, intelligenza artificiale e IoT, Wolters Kluwer, Milano, 2018, p. 126 ss.;
B. Mienert, How can a decentralized autonomous organization (DAO) be legally structured, in E-Zeitschrift für Wirtschaftrecht & Digitalisierung, 2021, Rn. 336 ss.;
G. Weinstein, S. Lofchie, and J. Schwartz, A primer on DAOs, in Harvard Law School Forum on Corporate Governance, September 17, 2022, available at: https://corpgov.law.harvard.edu/2022/09/17/a-primer-on-daos/;
Tyros Consulting, Decentralized Autonomous Organization (Organizzazione Autonoma Decentralizzata) DAO – aspetti legali e societari, March 24, 2022, available at: https://tayros.bg/index.php/2022/03/24/decentralized-autonomous-organization-organizzazione-autonoma-decentralizzata-dao-aspetti-legali-e-societari/.
Websites
Regulations are available at:
- Wyoming Decentralized Autonomous Organization Supplement, Wyoming: https://wyoleg.gov/NXT/gateway.dll?f=templates&fn=default.htm;
- Blockchain-based Limited Liability Company, Vermont: https://legislature.vermont.gov/statutes/section/11/025/04171; alternatively, available at the unofficial website: https://law.justia.com/codes/vermont/2018/title-11/chapter-25/;
- Legal DAO, Delaware: the Delaware statute governing limited liability companies (Chapter 18 of Title 6 of the Delaware Code) is available at: https://delcode.delaware.gov/title6/c018/index.html.
A Comparison between the different legal entity options available worldwide is provided here: https://www.midao.org/.
